Are you yet to decide on the best price model for your Saas business? If YES, here are 7 best pricing strategies that will pull clients to your SaaS products.
Software as a Service (SaaS) is a type of software licensing and delivery model in which the software is licensed by a third party and delivered to clients through the internet. Unlike in the case of locally hosted models, clients that go for a SaaS model do not have to install the software, update it, maintain it and integrate it. The vast majority of technical aspects are “taken care of” by the SaaS provider so that the client can start using the SaaS product with little effort.
The change from locally hosted software to SaaS has been happening for some time, and is part of a more general shift in the IT industry to cloud-based applications. According to FTI Consulting, 69% of businesses today use at least one cloud-based application.
For a lot of new products, price is a usually set shortly before the product is to be launched. The advantage and disadvantage of SaaS is quite straight forward. On the pro side, SaaS is much easier to set up and run. It doesn’t require local servers, storage, management, et al. However; on the other hand, it doesn’t allow the same level of customizability that on-premises software can provide.
Unlike traditional software, customers licensing SaaS products pay for your product on a recurring basis. This gives you more options for pricing models. And because the product is centrally hosted, you have additional flexibility for offering your product in unique packages.
There is no one size fits all parameter for finding the right price for your SaaS model. However, the truth still remains that if you get the pricing right for your SaaS model, you can delight customers, provide competitive differentiation and launch a more profitable product.
How to Price your SaaS Products – 7 SaaS Pricing Models to Consider
When operating a SaaS model, there is a need to find the right balance between value and revenue. On the one hand, you should make sure that your customers are fairly compensated and on the other hand, you should make sure that you are receiving enough income that can make your business to be continually viable.
If you charge too little, your business can come to a grinding halt and if you charge too much you scare away your customers. To help you get the most from your SaaS product, here the major SaaS pricing models.
1. Flat Rate Pricing: this is the easiest way to sell a SaaS solution. Flat rate pricing involves offering one product, with one set of features for one price. In this way, flat rate pricing bears a lot of similarities to the software licensing model use of before cloud infrastructure existed, but with the added benefit of being billed monthly.
Advantages of Flat Rate Pricing
- Easier to sell: Offering a single product at a single price makes it possible to focus all your sales and marketing energy on selling a single, clearly-defined offer.
- Easier to communicate: SaaS pricing models can get complicated- but flat rate pricing is quick, simple and easy for any would-be customer to understand.
Disadvantages of Flat Rate Pricing
- Difficult to extract value from different users: If you’re targeting SMBs, and use an SMB-friendly pricing strategy, you’ll miss out on a fortune in revenue if any enterprise companies decide to adopt your tool.
- One shot at securing customers: There’s no nuance or flex in flat rate pricing: either would-be customers want the package, or they don’t – and there’s little you can do to make them change their mind.
2. Usage Based Pricing: this is also known as the Pay As You Go model. With this model, the pricing strategy is directly related to the cost of a SaaS product to its usage: if you use more of the service, your bill goes up; use less, and your spending decreases.
Usually, this practice is seen in infrastructure and platform-related software companies (like Amazon Web Services), where companies are charged based on the number of API requests, transactions processed, or gigabytes of data used.
Increasingly though, SaaS companies are finding new ways to adapt the model, like social media tools that charge for scheduled posts, or accounting tools that charge per invoice.
Advantages of Usage Based Pricing
- Price scales alongside usage: It makes sense to correlate usage and price. For instance, if the demand you have does not remain the same all year round, then it is not fair to pay the same price for when you actively used the product and in times of less demand.
- Reduces barriers to use: There are no big up-front costs with usage based pricing, and even the smallest startups can get started with your product, safe in the knowledge that prices will only increase alongside their usage.
- Accounts for “heavy user costs”: in price packages that are fixed, there is always the tendency that the heavy users will take up a disproportionate amount of your delivery resource, without having to pay more than other.
Disadvantages of Usage Based Pricing
- Harder to predict revenue: if you decide to go for a usage based pricing, your billing amount will differ from on a monthly basis and as such you will find it very difficult to predict the amount of revenue to expect on a monthly basis.
- Harder to predict customer costs: the customer also faces the same uncertainly. Those with volatile usage may see wild (and potentially unexpected) fluctuations in their monthly bill.
3. Tiered Pricing Strategy: Flat rate and usage based pricing are relatively uncommon in mainstream SaaS, and it’s tiered pricing which is the de facto model used by most companies. At its heart, tiered pricing allows companies to offer multiple “packages”, with different combinations of features offered at different price points.
The average number of packages on offer can vary, but the average clocks in 3.5 – often geared towards low, middle and high price points.
Advantages of Price Tiering
- Appeal to multiple personas: With a single package, you have one shot to resonate with your target customer; with tiered pricing, you can tailor packages to suit multiple buyer personas.
- Leave less money on the table: By appealing to multiple personas, you can maximize the revenue generated from different types of customers. Offering a single $50 package will overcharge users willing to pay $5, and undercharge users willing to spend $100.
- Clear up selling route: When your customer outgrows their current package, there’s a direct route to the next price point.
Disadvantages of Price Tiering
- It can be confusing: the clients can become overwhelmed with choice, and trying to decide between ten price tiers is a rapid route to an abandoned sale.
- Appeals to too many people: It’s tempting to create a wide range of packages to appeal to every possible need – but as the adage goes, you can’t be everything to everyone.
- “Heavy user risk”: If top tier users regularly exceed their allocated service usage, you have no recourse for collecting extra revenue to compensate.
4. Per User Pricing (Per Seat Pricing): this is one of the most popular SaaS pricing models. This popularity can largely be attributed to its simplicity. Per user pricing involves a single user paying a fixed monthly price. If another user is added, the price will double, and if another user is added, the cost triples, and so on.
This makes it extremely easy for customers to understand what their monthly subscription buys them, and easy for SaaS startups to manage and predict their revenue.
Advantages of Per User Pricing
- Simplicity: Per user pricing is one of the simplest, most direct pricing models, making it easy for would-be customers to calculate monthly costs. It is also great for users, and great for simplifying the sales process.
- Revenue scales with adoption: With this pricing model, the more users you have, the more your revenue will increase. If for instance you’re able to double the number of users within a company, you’ll be rewarded with double the revenue.
- Predictable revenue generation: SaaS companies are reliant on the recurring revenue model, and per user pricing makes it easy to calculate and forecast each month’s revenue generation.
Disadvantages of Per User Pricing
- It limits adoption: By charging per user, you provide a reason to avoid adding new users to the tool. This also provides an incentive to cheat, and wherever possible, share a single login between multiple team members.
- It makes it easy to churn: By limiting adoption, you also make it easier for customers to abandon your service. After all, who’s more likely to churn? A team of 100 people using your product, or a team of 10?
- It doesn’t reflect the real value: Does it make a difference to a customer whether they’ve got three users or four?
5. Per Active User Pricing: this model is a variant of the per user pricing model. Many SaaS companies encourage yearly billing cycles. This can mean that a new customer could pay for hundreds of employees, up-front – without any guarantee that those employees would actually use the software.
Per active user pricing tackles this problem head-on, encouraging customers to sign-up as many users as possible, with the safeguard that only active users will actually be billed for.
Advantages of Per Active User Pricing
- Customers only pay for active users: with this model, you don’t have to waste money on products that you did not actually make use of.
- Reduces the risk of widespread adoption: If you’re selling into an enterprise company, you want to encourage as much adoption as possible. Per active user pricing makes it easier for companies to take the risk and initiate a company-wide roll-out. If it doesn’t work, they don’t pay.
Disadvantages of Per Active User Pricing
- Doesn’t work so well for SMBs: This pricing model works great for improving adoption in enterprise organizations, but when cash is tight and team sizes are small, per active user pricing doesn’t offer much extra incentive to encourage clients to go for it.
6. Per Feature Pricing: instead of making frequency-of-use the common variable, this model presents the features as the determinant of price. Per feature pricing separates out different pricing tiers according to the functionality available in each, with the higher priced packages associated with a greater number of available features.
Advantages of Per Feature Pricing
- Clients have strong incentive to upgrade: this model offers a clear incentive for clients to upgrade their package, because they will unlock extra features.
- Compensate for delivery-heavy features: Some of your features may require a disproportionate amount of resources to deliver – per feature pricing allows you to appropriately compensate, by putting these features into your top-tier packages.
Disadvantages of Per Feature Pricing
- Difficult to get right: How do you know which features your users will want? Getting the balance wrong can discourage adoption, as crucial features end up in overpriced tiers, or the bulk of your product’s benefit ends up in your cheapest package thereby discouraging people from upgrading to higher tiers.
- Leaves a bad taste: It’s easy to feel resentful with per feature pricing. You’re paying a monthly fee to use a product, and still, you’re missing out on some of their functionality.
7. Freemium Business Model: some high profile SaaS companies can afford to offer their product for free while supplementing it with additional paid packages.
Usually, the freemium business model is made to be part of a tiered pricing strategy, where the regular paid packages are supplemented with a free, entry-level tier. That tier is then limited across certain dimensions in order to encourage users to upgrade at a certain level of usage, typically employing feature-based, capacity-based or use-case limitations.
Advantages of Freemium Pricing
- It’s a foot in the door: going for the freemium model encourages people to adopt your product and start using it. Once they are already using it, it will be easily to convince them of the need to upgrade to a paid tier.
- Viral potential: With such low barriers to use come significant viral potential. For instance, companies like Dropbox grew so rapidly because of user referrals, as their existing users passed on the product to friends and colleagues.
Disadvantages of Freemium Pricing
- It can drastically reduce revenue: it goes without saying that the free users will not generate any income for your company. This means that your paid users need to generate enough revenue to support the cost of acquiring and serving all of your users – paid and free.
- It’s easier to churn on a free package: people are more likely to value a product when they are paying for it. Even though a free-to-use version of your SaaS product makes widespread adoption simple, it also make it easy for users to simply stop using it increasing churn as a result.
- It can devalue your core service: If your product solves a painful, expensive problem for free, your users have may resent having to eventually pay for the service.
7 Key Areas to Consider When Deciding On the Best SaaS Price Model for your Products
1. Price Based on Customer Value: one of the most important elements for pricing SaaS products is customer value. Granted, customer value is quite important for all software products, but it is even more important with SaaS products.
It is of utmost importance to have an extensive understanding of the value your product will give to your clients. This value will go a long way to inform the price and pricing model you will go for.
The most common pricing model for SaaS products is a recurring subscription. Every month or year, your customers reevaluate whether they want to continue subscribing. This makes it even more critical to ensure pricing is in line with the value your customers receive.
The value your product provides can be quantitative, such as time saved or additional revenue earned. On the other hand, value can also be qualitative, such as pain relieved or lifestyle benefits provided. By having an in-depth knowledge of the value you can provide to your clients, you will better able to narrow in on possible pricing models and a price range.
2. Think Differently About Pricing Models: One of the exciting advantages of SaaS is that product managers can think differently about pricing models. Your product is no longer tied to a one-time purchase. With SaaS, you can consider models such as:
- Monthly and annual subscriptions based on seats or packages of seats
- Pricing based on a characteristic, such as storage
- Different pricing for packages of different features
- A free base product with paid subscriptions for enhanced features, functions or service
- Pricing for different market segments or user personas
With so many options, you now have the ability to discover a pricing model that aligns with your customers’ goals.
3. Understand Your Customer’s Lifetime Value: With SaaS, it’s important to understand what each additional new customer is worth to your product line. A customer’s lifetime value (LTV) is one of the most essential metrics because it influences the resources you allocate to the product, its sales model and what you can afford to spend to acquire customers.
There are lots of ways of calculating a customer’s lifetime value, but you can use this simple method. Take for instance that your software costs $30 per month, spend $5 a month delivering and supporting the service, and keep an average customer for 18 months, your rough LTV is: (30-5)*18 = $450.
The life time value over time must be greater than the cost to acquire that customer.
4. Keep it Simple: don’t make your pricing to be too complicated. Due to the fact that SaaS offers a lot of flexibility, the temptation may arise to offer various variations and packages. In some cases, there may be a good reason to do so.
For instance, it is common to have three packages of low, middle and high price (for instance, bronze, silver and gold). Studies show that this approach anchors customers, and buyers consistently pick the middle package. That’s fine if this is your goal.
However, creating an overly complicated pricing scheme has the potential to confuse customers and create a nightmare for your finance team. Keeping it simple reduces headaches and may even provide more revenue over the long term.
5. Create up-sell opportunities within your pricing model: One of the many advantages of SaaS is the ability to offer upgrades and services that drive additional revenue. Consider these within your pricing model, as they can make a substantial difference in long-term product revenue.
However, you should apply caution when offering annual pre-purchase discounts. Many SaaS products that license on a monthly basis will offer a discount for annual pre-purchasing. Analysis shows that over the long term, you leave significant revenue on the table.
6. Test Pricing Early and Often: Pricing for SaaS model is a very fundamental part of the product and business model that you need to validate it early in the product development cycle. A combination of qualitative customer interviews and quantitative price testing is needed to get enough data points to make good decisions.
With web-based SaaS products, it’s easier than ever to conduct A/B tests to gauge buyer behavior and optimize your pricing (both before and after launch). If your price your SaaS model right, you have a recurring revenue stream that places your product’s portfolio value well above traditional software products.
In conclusion, when pricing a new product, there is always the temptation to go along with what your competitors are already doing or to set your price just a little lower. Sure, you can price the same way as your competitors, and perhaps that’s what your customers expect.
But with SaaS, there are so many ways to price the product that you have the ability to stand out in the market by thinking differently. Capitalize on the approaches that your competitors haven’t considered.
To customers, cost is not everything. Granted, cost of goods sold needs to be a factor for you to be viable, but this is not related to how customers value it. You should bear in mind that the customers perception of pricing is highly psychological and doesn’t always follow economic rules. A lower price doesn’t necessarily equate to more customers and revenue.